Economic Logic, Too

About Me

I discuss recent research in Economics and various events from an economic perspective, as the name of the blog indicates. I plan on adding posts approximately every workday, with some exceptions, for example when I travel.

Wednesday, April 29, 2009

Whenever trouble brews in the global economy, some currencies tends to becaome the refuge of worried investors. There is plenty of opportunities to panic right now (rightly or wrongly), and these safe haven currencies are again being sought. So, which are they?

Angelo Ranaldo and Paul Söderlind document that these currencies vary little by circumstances. Whenever US stock markets tank, US bond prices increases or currency markets become more volatile, the euro, the British pound and especially the Swiss franc appreciate. Interestingly, such movements are visible in the data at all sorts of frequencies, including hourly data.

While I can understand why non-US currencies appreciate when there are sign of trouble in the United States, I am somewhat mystified why the Swiss franc would appreciate more that the others. While Switzerland has indeed the reputation of being a very stable country, its monetary policy follows very closely that of the Europen Central Bank (and the German Bundesbank before that). In fact, the Swiss National Bank does not like at all such appreciations, which are bad for trade in a country relying very much on its export sector. Does anybody have insights?

Monday, April 27, 2009

Labor market reform seems to be an eternal buzzword among policy makers in Europe as they try to deal with chronically high unemployment rates. They continually come up with new ideas on how to undo what labor laws, labor practices and poor labor mobility have done. On favorite are active labor market policies, which try to prepare unemployed workers for new jobs through various channels such as reschooling, phantom businesses or job searching skill classes.

Looking at the recent reform in Germany, where substantial welfare-to-work programs were introduced, Martin Huber, Michael Lechner, Conny Wunsch and Thomas Walter find that these initiatives work in the short term, sort of. They highlight that results differ a lot across people, and that this count be exploited to better target the programs. Implicit in this statement is that active labor market policies are wasted on some people, while quite efficient for others, and one should truly discriminate. Indeed, while thses policies seem to improve overall job market prospects, they also cost, something that is typically ignored in this type of study.

Friday, April 24, 2009

Policies to reduce drunk driving do not appear to work. There are still many accidents caused by them, and threats of imprisonment (rarely credible) or loss of driving privileges (recanted when the offender needs to drive for a living) do not have the necessary bite. Indeed, drunk driving has only real consequences when an accident occurs. Are there better solutions?

An economist always looks whether there are market based solutions that would properly drive incentives. In particular, one would want (potential) drunk drivers to internalize the cost they exert on others with their behavior. That is, one would want to impose the appropriate tax. Steven Levitt and Jack Porter looked at this in their 2001 JPE piece. Considering only fatal crashes, they estimate that drivers with alcohol in their blood multiply the probability of a crash by 7, legally drunk (above (0.10%) ones even by 13. Now, using fatalities and traffic statistics, as well as measures of the statistical value of life, they then are argue that driving with alcohol should be taxed at US$0.15 a mile, the double for legally drunk, for the costs of fatalities to be covered. Of course, such a tax would be impossible to enforce. But one could fine people when caught, even when no accident is involved. That fine would amount to US$8000,given typical arrest rates. Now enforce that.

Wednesday, April 22, 2009

While the restaurant industry is exempt from minimum wages in the United States (at least for jobs where tipping is prevalent), other countries have binding minimum wage laws for all industries. One common complaint from restaurant owners then is that minimum wages unduly increase their costs and that they have to increase prices accordingly. Well do they?

Denis Fougère, Erwan Gautier and Hervé Le Bihan look at restaurant prices collected for the computation of the consumer price index in France and find that it takes a full year for minimum wage increases to be reflected in menu prices. From this we can learn many things: 1) menu costs are important; 2) restaurant owners have sufficient margins to absorb such cost increases, despite their claims. The second point is more of anecdotal nature, while the first merits discussion.

There is a long standing debate whether prices are sticky or not. One of the main justification for stickiness, menu costs, takes its name from the cost of determining new prices and printing new menus in a restaurant. So there is no reason to act surprised that one finds some price stickiness in the prime case for price stickiness. It is like finding that water is wet. Find me price stickiness in a market known for flexibility, and then I would be convinced.

Tuesday, April 21, 2009

Most industrialized countries have very low birth rates, jeopardizing the health of their retirement systems. Many governments try policies to increase fertility. However, in the name of gender equality and of improving female labor force participation, it is difficult to increase fertility while keeping females working.

The most extreme case is Sweden. Female labor force participation is at an international high, and fertility is very low, despite near universal use of subsidizing day cares. How could it be possible to increase fertility without discouraging work? Eva Mörk, Anna Sjögren and Helena Svaleryd show that increasing the day care subsidy works wonders. A lifetime equivalent of US$17,800 in subsidy led to a 4-6% increase in the birth rate. Not bad for a country that was thought to already have maximized all benefits.

Friday, April 10, 2009

The most important questions economists can address relate to economic development. How can we explain the immense differences in income across the world? Why is human capital so low in developping countries? What can policy do about it? Should policymakers care? But answering all these questions is severely hampered by the abysmal quality of the data. Macroeconomic data is spotty and unreliable, and microeconomic data is largely inexistent. The answer to this problem was for researchers to generate their own data.

Thus were born randomization studies, whereby some region was region was subject to an economic experiment. Randomly seleced people or villages are given some sort of incentive, and others not, and the impact of the intervention is studied. This procedure has now become extremely fashionable in the development economics community, where it is now a must to be working "in the field" gathering data. This approach has, however, become increasingly questioned, for several reasons.

First, randomization studies are terribly expensive. There is an increasing sentiment that these resources could be better used, both in terms of research and development aid. In some cases, such experiments have even been shown to be detrimental. I related earlier about one where the distribution of free anti-malarial bed nets killed a local industry.

Second, as Angus Deaton discusses, the data that is obtained in these randomization studies is not informative. The critical issue here is that these experiments are not designed with any theory in mind, thus they do not help us in understanding the underlying mechanisms. They are case studies, applicable only to the very situation they have been used in. This criticism is very similar to the Lucas critique. Unless you put structure in your data, there is nothing useful you can learn from an elasticity in a linear regression with a set of variables which happen to be those available. Add to this that randomization, if poorly performed, gives statistically very poor results.

Third, I have yet to see a study that would indicate anything about the cost effectiveness of a policy or treatment. Studies are all focused on dtermining whether there is a significant impact in a statistical sense, sometimes in an economic sense, but never discusses the cost of the policy. In fact, given the huge cost of these studies, one starts to wonder whether those researchers ever think about scarcity and budget constraints.

What you really want to learn from an experiment is what is generalizable, what can be applied to other situations that differ from the studied one. For this, development economics needs to refocus on theory and the use of theory in its empirical work. Theory can help us understand a surprising amount without needing much data. In fact, in an evironment that is data poor, theory should be the priority, and any quantification should be performed with data-economizing techniques, such as calibration.

Tuesday, April 7, 2009

RePEc recently released a ranking of the best young economists. While it is obvious that results are going to be somewhat spurious when based on a short career (and for other reasons explained on the RePEc blog, there are still some interesting aspects to them. First, looking at those that have a publication record for 10 years or less, to things stand out: 1) there is substantial female presence; 2) the US dominance is less pronounced.

First about the women. While in the general ranking, there is only one woman in the top 100 (Carmen Reinhard), there are much more numerous among the young: Monika Piazzesi at 7, Paola Sapienzi at 10, Eliana La Ferrara at 21, and more. While women are still a small minority, this is a remarkable change.

Them the Europeans. In the general ranking, I count only five economists based in Europe among the top 50 (one of them deceased), there are 11, plus two in Australia, among the top young. This shows how much progress Europe has made in graduate education and in its capacity in retaining talent compared to recent decades.

Monday, April 6, 2009

It is now pretty obvious that the US political system where political candidates have to raise their campaign funds from influence peddlers (aka political action committees) is at least not optimal if not disastrous. But solutions to get out of this mess are difficult to find, none the least because those that can make change happen are those that are the most interested in the status quo. Yet, this not lower the interest in studying this problem, the incentives at play and various policy proposals.

Christopher Cotton looks at an interesting aspect: should we cap contributions or tax them? Like in many situations where it is optimal to have less of some quantity, it should not be a surprise that taxing is the optimal strategy, at least compared to rationing. What is more interesting is that Cotton shows that the contribution cap is optimal from the point of view of the politician. In other words, even if a consensus could be obtained that political contributions need to be reigned in, the policy outcome would still be one that is suboptimal and favoring politicians. We are screwed.

Thursday, April 2, 2009

Imagine that employers determine the quality of job applicants by looking at their GPA (grade point average). Then obviously, colleges would want to give good grades to their students to give them better chances on the job market. To attract tuition paying students, colleges promise good grades. This scheme will work as look as there are some naive employers that do not see that they are getting fooled by grade inflation.

Patrick Bolton, Xavier Freixas and Joel Shapiro argue that this is exactly what happened with the credit rating agencies, which are financed by the very institutions they are rating. And the latter shop around for the better ratings. As long as there are naive investors willing to believe whatever the credit rating agencies say, the rating inflation will continue. The authors show with a model that the optimal policy response is to force disclosure of all ratings. One would not have needed a formal model to realize that. More interesting is that they show that a monopoly can in fact lead to better outcomes, for once, because it does not lead to rating inflation. Monopolies bring other inefficiencies, however, and we are already advocating the public provision of ratings...

Wednesday, April 1, 2009

Sometimes, small incentives can bring great rewards. Think for example about the 10 cent toys some fast food outlets give to children in return of the loyalty of a whole family (and a lifetime of business thereafter). One could equate this to the little tryout that tips you into an addiction, providing great returns to the provider of the initial investment. But can we obtain such behavior on a more positive side?

Gary Charness and Uri Gneezy show that giving people a monetary incentive to attend a gym for a month will make them more likely to attend thereafter. They claim that a non-trivial incentive managed to create a good habit, but one can also view this incentive to be relatively small compared to the present value of future benefits from going to the gym.

It looks like context matters. People already were aware of the benefits, they just needed to overcome some fix costs to try and the incentive was sufficient. But the more interesting aspect of the study is that compared to a control group, those who received incentives for a sufficiently long time then kept going to the gym thereafter, thus a habit was created. But it looks like this habit was already underlying, waiting to awakened. Why would this habit be stronger with the monetary incentive?

The experiments were carried out in Chicago and San Diego. In particular in the second location, there is a culture centered around the gym: it is the place to be, the meeting place. There is something of an expectation in California that everybody respectable goes to the gym. What does this mean for this study? The peer pressure to go to the gym should not be different according to the receipt of an incentive or not. But does the feeling of guilt about not going to the gym become stronger if you used to be paid to go?